4. Distinguish between a loan and an overdraft.
- Traditionally, bank finance is classified between these two major
categories, loan and overdraft. There are many points of difference between a loan
and an overdraft:
LOAN
Characteristic - A loan is a fixed sum of
money advanced by a bank as
one lump sum payment.
- There will be debits only
towards lump sum advanced
and periodical interest and
fees.
Purpose - May be given is generally to
purchase an asset like plant
and machinery or house.
Repayment - Generally repaid (together
with interest) in monthly or
quarterly installments over a
period of time.
Term - Loans are generally given for
medium to long term. The
period may vary from 3 to 5
years or even up to 25 years.
Interest - The interest amount is
included in the equated
monthly or fortnightly
instalment that the borrower
has to pay.
Prepayment - The borrower may be
charged a prepayment penalty
in the case of repayment of a
loan earlier than scheduled.
Chequebook - No such chequebook is
necessary for borrowers of a
loan.
OVERDRAFT
- An overdraft are a running
account, a set limit and
frequent deposits and
withdrawals in the account.
- There could be many debits
and credits in an overdraft
account
- Usually given for meeting
operational expenses or
working capital.
- Through deposits in the bank
account.
- Overdrafts are usually given
for a short period of time, say
one year. These can, however,
be renewed at the end of the
year.
- Interest is charged on
overdrafts on product basis;
that is, interest is charged on
the number of days an amount
remains in debit
- There are no prepayment
penalties in case of an
overdraft
- Usually issued to the
borrower who has been
allowed an overdraft
 5. What are the advantages of a framework for credit and lending decision-
making?
The framework of credit and lending decisions consists of consideration of
external, internal and borrower specific factors. The main advantage of following a
framework is that it ensures that decisions are made with due consideration of all
aspects of lending. Secondly, the lending officers could be certain that they have
not violated any of the relevant requirements. If, for example, lending officers
make a decision without consideration of the bank’s policy, they may be subjected
to strictures from internal audit. Thirdly, as decisions are made systematically, the
credit risk is greatly reduced. Fourthly, the lending institution could be certain that
it has not contravened provisions of any legislation. Fifthly, the top management
could be certain that bank loan policy is implemented at the branch level by
lending officers.